Jesse is attending a camp focused on people trying to correct their lives after heavy use of drugs or alcohol. Fed up, he questions if the group leader had every really hurt someone. The group leader shares his experience of killing his daughter after getting drunk. He lived in a state with an ABC (Alcoholic Beverage Control) store that closed at 5 PM. Some states regulate the sale of alcohol in attempts to limit its consumption, but this can have unintended consequences. Because alcohol is not readily available, some consumers purchase more than they might need. The group leader admits to doing so, drinking too much, and then killing his daughter.
Waiting for Walter to get to the facility, Jesse decides to goof off. When employees aren’t being monitored, there may be an incentive for those employees to shirk (goof off) while still being paid. If firms pay efficiency wages, that may incentivize some workers to avoid shirking, but it’s not always guaranteed.
Back in the office of Saul Goodman, Walter and Jesse try to sort out some of their recent misunderstandings. In the process, Jesse finds out that Walter is soon to start producing methamphetamine without him and under the employment of their associate, Gus Fring. When Walter is asked about how much he stands to gain from this new partnership, he simply responds, “It is $3 million, for three months of my time.” Saul knows that this large amount of money needs to be laundered and immediately offers his services for a 15% fee. However, as a prospective customer for money-laundering services, Walter is well aware of his bargaining power and quickly counters Saul’s offer with a 5% fee. Saul attempts to negotiate a high-enough fee by sequentially proposing 14%, 13%, 12%, and 10% fees. In each scenario, Walter’s response is unchanged, “5%”. Single buyers, or monopsonists, have the market power to reduce the acquisition price, just as a monopolist has the market power to limit the quantity supplied and therefore increase market price to maximize profits.
This video clip is also instructive about the price elasticity of supply. More specifically, the video clip emphasizes Saul’s perfectly inelastic supply for money-laundering services over the observed range of prices (i.e., 5% to 15%). Despite the fact that the laundering fee (the price Saul receives) is adjusted from 15%, 14%, 13%, 12%, to 10%, and finally to 5%, Saul is still willing to supply his services. The negotiation between Walter and Saul also reveals some information about Saul’s “willingness to supply”, which seems to be somewhere under or at the 5% threshold. This is simply because even at 5%, Saul accepts the proposal.
Finally yet importantly, the dialogue between Jesse and Walter, located the end of the episode and included below, may be used to frame a discussion about contracts, contract enforcement, and the role of institutions in shaping the behavior of economic agents. Jesse: “You think that this will stop me from cooking?” Walter: “Cook whatever you like. As long as it’s that ridiculous Chili P or some other dreck … but don’t even think about using my formula.” Jesse: “Just try and stop me!” While Walter is indeed the one who discovered the formula for the “blue” methamphetamine, he might have a hard time preventing Jesse from using the same formula to produce a similar good. Had this formula involved any other legal product, such a dispute would have been prevented by the filing of a patent or by a contract regarding its use, both enforceable through a functioning judicial system. However, the use of institutions as a dispute-settling mechanism is not possible in this case – methamphetamine is an illegal good, produced and consumed within a black market. Consequently, violence and the use of force tend to replace institutions in solving such issues, a substitution that generates significant external costs to society.
This description comes from Duncan, Muchiri, and Paraschiv (Forthcoming)
See more: bargaining power, consumer surplus, contract enforcement, contracts, demand, dispute resolution, elasticity of supply, institutions, market power, monopsony, producer surplus, supply, transaction costs, willingness to pay, willingness to sell
The scene brings forward a discussion between Jesse and Walter. Their dialogue is centered on how their competitors choose to protect their turf and the shooting of their partner Combo, for which Jesse seeks revenge. The scenes within are particularly useful for discussing the importance of property rights delivered by a functioning legal system and the consequences brought about by the impossibility of enforcement, for instance, in the black markets for drugs. For example, when Combo sells “blue” methamphetamine in the competitors’ turf he ends up being killed by an 11- year old boy. The rival gang seizes and sells the “blue” methamphetamine, distributed by Combo and cooked by Walter and Jesse, as their own. Outside of black markets, courts or specialized branches of the police would have handled such disputes. However, when the rule of law and property rights are absent, vaguely defined, or not enforceable, agents resort to other means of enforcement such as violence, which breeds more violence – Jesse is obviously seeking revenge for Combo’s death.
The clip is also useful for illustrating the socio-economic costs and the unintended consequences of illegal drugs and the black markets that form in response. The loss of life and the use of children, often from poor neighborhoods and low-income families, as labor are obvious. A discussion about social mobility and human capital development may also originate within these scenes. In broad terms, children who end up dealing drugs and protecting turfs fail to accumulate the much-needed human capital, which should allow them to fare better than their parents. The scenes within may also be used to discuss how failure to accumulate human capital or make meaningful investments in tomorrow’s labor force diminishes a jurisdiction’s ability to produce goods and services, or, in other words, shifts that jurisdiction’s production possibility frontier inward.
This description comes from Duncan, Muchiri, and Paraschiv (Forthcoming)
See more: black markets, contract enforcement, dispute resolution, human capital, illegal drugs, institutions, judicial system, monopolistic competition, poverty, restricted opportunity, social mobility, unintended consequences
There’s a fly in the facility and Walter doesn’t want to proceed until the fly is dealt with. Walter doesn’t want to contaminate the product in any way, but Jesse is confused because the customers don’t care about the quality of the product. If a small fly lands in the batch, Jesse believes it won’t be that big of a deal because the customers are highly inelastic. Jesse cites other examples of contamination in food (like hot dogs and candy bars) where people (and the government) don’t care about the quality.
When employees have the ability to shirk or steal, firms may invest in monitoring devices to ensure against theft. In the lab, Walter supervises Jesse, but their employer monitors both Walter and Jesse as they work. Hypothetically the guard may be paid a handsome salary to disincentivize him from cheating his employer.
As the party unfolds, Badger orders a pizza from a special venue, which charges lower prices by not slices their pies. Jesse is not at all impressed by this sales approach and, in fact, is a bit irritated. Nevertheless, Badger attempts to link the resources spared by doing away with the pizza-cutting process and the savings passed onto the consumers. While this approach implies significant resource savings on a larger scale, the benefits may not outweigh the costs on an individual (i.e., consumer-by-consumer) basis.
Mike and Jesse need to get in touch with a dubious individual, who currently lives in a blocked off house. Mike’s plan is to wait until the person comes out of the house on his own. However, Jesse thinks he can speed up the process. After he fails to talk the person out of the house, he starts digging a hole in the front yard. Very soon after, the individual comes out and asks Jesse if he can continue digging instead. This account emphasizes that Jesse has skills that Mike does not, and, therefore, he can contribute to the success of the daily operations.
Gus and Mike have both been shot. However, the personnel at temporary medical facility they found themselves in only focus on saving Gus. Jesse is frustrated by this because Mike and he are very close. Nevertheless, the doctor points out that Gus is the priority because he is the one paying his salary. This is also visible in our current medical system. Specifically, those who have the ability to pay often receive priority and extra-quality healthcare, which may not be equitable, but may be, perhaps, efficient.
Walter, Jesse, and Mike and splitting the proceeds from a new, methamphetamine-production business. The scene demonstrates how businesses incur various expenses while providing instructors and students with a lively example about the different cost types. Once Mike divided the revenue into three equal stacks, he goes on to do an accounting of all the costs they have incurred while producing their latest batch. One can observe that some the costs such as the ongoing expense with keeping former collaborators quiet are fixed, while others, such as the cut to the dealers or the fee for the drug mules (i.e., those who transport the methamphetamine from its production to distribution location) are variable. Actually seeing each pile of cash shrinks, as they account for the costs of the business, provides a visceral example about costs, profit, and the relationship between the two.
This clip may also serve as a catalyst for discussing, once again, the role of institutions in shaping the behavior of economic agents and the consequences brought about by their lack of reach into black markets such as that for methamphetamine. Walter is surprised to find out that the cost with the mules is 20% of the revenue. However, Mike adds that transporting the methamphetamine involves risks (i.e., of being robbed by a rival gang or being caught by the police and sent to jail) and the cost is justified – in economics jargon, such costs represent the compensating differential for hazardous work conditions. Outside black markets, a robbery is solved by simply reaching out to the police or other specialized authorities. In other words, property rights may be enforced through the judicial system. However, in the case of methamphetamine this is not possible. This way, those who move the drug must also guard it and enforce the property rights over it through violence. Hence, the steep cost of transportation that characterizes the methamphetamine-producing business.
This clip also provides a detailed account of various activities that form the underground economy and underpin the $1,392,800, methamphetamine business. For example, dealers receive $13,240, mules (the ones who transport the methamphetamine for distribution purposes) get a flat 20% (after the dealers have been paid) or about $278,560, miscellaneous production-related expenses total $120,000, expenses with concealing the laboratory add up to $165,000, while the lawyer/money-laundering fees are $54,000. As part of the methamphetamine production, all these activities are illegal, thus not recorded officially, and hence part of the underground economy. The figures associated with such activities may find their way into official data, however, as fictional activities/services conjured by money launderers. This illustrates once more the difficulty that arises from accurately measuring the volume of the economy be it as the gross domestic or gross national product.
This description comes from Duncan, Muchiri, and Paraschiv (Forthcoming)
See more: accounting, black markets, compensating differential, dispute resolution, fixed costs, fixed inputs, gross domestic product, institutions, judicial system, money laundering, profit, property rights, revenue, risk premium, total costs, transaction costs, underground economy, variable costs, variable inputs
After running out of their primary ingredient, Mike suggests that they go back to producing using pseudoephedrine. Walter quickly points on that their equipment isn’t designed for this and it will reduce their yield significantly. Mike argues that the alternative is not making anything at all and that making some product is better than making no product at all. This scene serves as a nice example of why firms may operate at a loss rather than shut down. As long as the price of the product is greater than average variable costs, firms will operate in the short run.
After a failed first attempt to gain full control over a key production input and get the blue methamphetamine off the market, Declan, a Phoenix-based dealer, meets with Jesse, Mike, and Walter. Right from the start, Walter tries and appears to succeed in convincing Declan that collaboration is the best path forward. This way, Walter’s superior blue methamphetamine remains in production and the methylamine, the key input, is used in the most efficient and profitable way. Further, Declan and his crew would serve as their distributor. This way the parties specialize according to their comparative advantage while all parties economize and gain from trade.
See more: barriers to entry, black markets, collusion, comparative advantage, efficiency, elasticity of demand, elasticity of supply, inputs, mergers, monopolistic competition, monopoly, oligopoly, quality, substitutes
Mike and Jesse attempt to get out of the business of producing the blue methamphetamine. In doing so, they attempt to sell their share of the methylamine, a key input in the production of methamphetamine, to Declan, a competitor from Phoenix. However, the Phoenix producer wants it all, theirs and Walter’s. This way he can control the entire market for methamphetamine. Because he knows that he can reproduce a similar product, he recognizes that having all thousand gallons would make it so that Walter couldn’t be competition in the market. Having control of the market will give this producer monopoly power, which will allow him to be even more profitable. Controlling a scarce resources is a common way that monopolies create barriers to entry in a market, resulting in the market power.
This clip represents a wonderful account of all the moving parts of Walter’s methamphetamine enterprise. Walter and Jesse cook, Lydia arranges and oversees the international shipments of methamphetamine, which are disguised as shipments of various chemicals between the subsidiaries of the multinational enterprise she works for, Todd coordinates the transportation operations, and Skyler is in charge of accounting and money laundering. Here, the division of labor and the comparative-advantage based specialization is what makes their enterprise successful. If one or two individuals tried to run the same operation (like when it was just Jesse and Walter), they would not be able to produce as efficiently. The downward sloping portion of the average total cost curve is the area where the benefits of specialization outweigh diminishing returns from adding additional workers.
Walter stops by to see Jesse. Reminiscing about the start of their partnership, they cannot help but wonder about sticking with the old recreational vehicle (RV) even when there was enough to replace it. While the RV served them well in their first attempts to cook methamphetamine, the two did not upgrade until they started working for Gus Fring. The ownership/endowment effect underlines the scenario in which some people are unwilling to exchange something that they possess for the same amount of money that they would pay for it (if not owning it). Walter and Jesse loved the RV even though it had, and brought them, many problems. From a rationality standpoint, they may have been too concerned with the sunk costs that they have incurred.
It looks like Hank has finally cost Jesse in the RV and he’s on the hunt to arrest him for meth production. In the process of trying to break into the RV, the owner of the junkyard asks if Hank has a warrant for the RV he’s trying to break into. While pleading his case, Hank doesn’t want to believe that he needs a warrant, but probable cause and the Fourth Amendment are in place to protect people and their personal property. It establish property rights and doesn’t allow the police to violate that property at their own will.
The benefit ($1.5 million) relative to the cost (time and effort) of cooking meth is different for Walter and Jesse. The benefits are obviously lower than the costs in Jesse case but not for Walter; as he seems happy with trading his time and effort for the cash. Even with clear and predictable benefits, people’s own subjective costs of their time can still make them disagree on the cost benefit analysis.
Jesse calculates that Fring is earning $93 million from Jesse and Walter producing meth, but he doesn’t feel adequately compensated. His focus on Fring’s revenue rather than his profits is causing him to feel vastly underpaid. What is Jesse forgetting? What about costs with the lab, packaging, distributing, and guarding the meth. In addition, the risk that Gus (the owner of the methamphetamine operation) takes represents an additional cost of doing business.
In a flashback to the pilot episode, Jesse and Walter are discussing the purchase of an RV to start cooking meth. The purchase of the famous RV would represent a fixed cost of production for their new business venture
Jesse fills up the RV’s tank and asks for a pack of cigarettes. However, he does not have the money to pay for these. He asks if he can come in a pay later but the cashier tells him that the gas station belongs to her dad, who is very careful when it comes to money. The gas station belongs to the father and he has the incentive to care for it, but the same can be said about his daughter. According to her, Jesse could leave and come back later.
Jesse visits a gas station and, after filling up and asking for a pack of cigarettes, he realizes that he has no cash on him. He proposes a trade; a little bag of “blue” methamphetamine against the gas and cigarettes. After hesitating initially, the cashier accepts the trade. However, for the trade to take place, a mutual coincidence of wants must emerge. It does in this case. Also, note that the cashier accepts the methamphetamine under the false belief that it does not create addiction.
Now that Blue Sky (the methamphetamine cooked by Walter and Jesse) faces no other competition in the Albuquerque market, Walter realizes that the price of their product is too low. He goes on to add that, once the market is cornered, the price should be raised; “simple economics”.
The RV needs to be stored, and Jesse is hoping that the person who helped him tow the RV away before the DEA could find it would also be willing to let him store it on his property. The issue at hand is that Jesse had earlier stolen the RV and destroyed part of the property in the process. Jesse is hoping that they can come to a new agreement on storing the RV. As before, Jesse is in a bind and needs to store the RV. He doesn’t have time to shop around, so the tow operator has the upper hand in the negotiating process. When consumers don’t have a lot of time to shop around, their demand for services is often pretty inelastic.
After getting kicked out of his parents’ house, Jesse is on the hunt for a new apartment. After the potential landlord realizes Jesse doesn’t have a legal job, she raises the rent on the apartment. Part of her ability to do this comes from the fact that Jesse is a rental risk and she needs to be compensated for the additional risk she takes on from renting to someone without a legal job. Jesse’s demand is also pretty inelastic because he needs a place to live and there aren’t many places willing to lease to a person without a formal job.
Jesse’s getting kicked out because his parents believe he’s making meth in the house. His confusion stems from the fact that a relative passed the house down to him, so he believes the house belongs to him. Only now does Jesse learn that his parents actually own the house, which gives them the right to vacate him from the house. Property rights are an important component of contracts so that it’s clear who is able to control that property.
The DEA is close to catching Jesse and Walter, which means Jesse needs to get the meth equipment out of his house fast. Badger knows a guy who owns a tow company and will tow away the RV, but it’s going to cost Jesse. This is a great example of inelastic demand for services. The DEA is close behind, and Jesse doesn’t have a lot of time to shop around for a better deal. The tow truck driver knows this, which is why he mentions the price is so high because of the cargo, not the miles. This means Jesse will need to pay a hefty sum to get his discrete services.
This clip shows Jesse interviewing for, what he thinks it is, a standard sales position. However, he soon finds out that he is in for a sign-twirler job. Nevertheless, the employer would have considered Jesse for the sales position if he possessed the required skills (i.e., a sales license, two-year and on-the-job sales experience, and a college degree). Even though Jesse has significant (on the street) sales experience, he is not qualified for the standard sales position he thought he applied for. Since Jesse lacks the prerequisite skills, he must continue to be frictionally unemployed (until he can find a suitable position).
Tuco is getting worried and suggests that they all move to Mexico so that the government will stop tracking them. Walter and Jesse aren’t keen on this idea because it means they’d have to give up their family, and that’s a cost Walter isn’t willing to make, even for lots of money. The whole reason he started making meth was to support his family, but Tuco doesn’t seem to understand the issue. He suggests that he can just get another family, implying they are substitutable.
After watching a gruesome beating, Jesse and Walter are officially scared of their new distributor, Tuco. Walter starts to calculate just how much money he needs to earn selling meth in order to take care of his family. Becker’s theory on the rational criminal suggests that criminals take the time to calculate the costs and benefits before committing their crimes. Walter is even careful to consider future inflation changes as he determines the appropriate amount to “invest.”
After promising their new distributor they could produce 4 pounds of meth, Jesse starts freaking out. When the original deal was 2 pounds, Jesse was concerned about being able to buy enough pseudoephedrine to produce that. After showing up at their earlier meeting with only half of a pound, it seems impossible that the two of them can make 4 pounds weekly. It turns out that Walter can chemically create the same effect, but he needs Jesse to pick up some supplies. The elasticity of supply often dictates that the responsiveness of a good depends on how easily other substitutes can be acquired.
Tuco shows up in a junkyard expecting to purchase 2 pounds of meth from Walter and Jesse, but the two of them only brought about half a pound. Tuco isn’t happy because he’s wasted his time coming out for such a small quantity and isn’t too keen on their excuses. He docks part of their pay for “wasting his time.” All of our actions, including taking time to do something, has costs even if the price is zero. People often forget the value of their time, but not Tuco.
Walter finds a distributor to sell his meth to, but it requires that the two of them produce two pounds per week when they were previously making only one pound. Walter doesn’t see the issue because it wouldn’t take that much more time, but he’s excited for the significant increase in income from this deal. What Walter doesn’t realize is that there are capacity constraints when it comes to the inputs. Jesse is responsible for acquiring pseudoephedrine, which is the necessary ingredient to produce meth. Because of various US laws aimed at preventing pseudoephedrine to be used in meth, customers at drugstores can only purchased a fixed quantity at a time. Jesse drives hundreds of miles to collect pseudoephedrine from “smurfs,” but that can only produce 1/2 pound of meth each week. He doesn’t realistically see how the two of them can find enough pseudoephedrine to produce the two pounds of meth per week their new distributor is requesting. Luckily, Walter is a VERY good chemist!
See more: capacity constraints, economies of scale, government regulation, incentives, inelastic, optimal output, profit, Resource market, scale of production, scarcity, supply elasticity, underground economy
Jesse brings in the revenue from the first batch of meth, and Walter is less than impressed with the amount of money that has come in. Walter had made a pound of meth (16 ounces), but Jesse has only sold 1 ounce because he’s selling it directly to users. Walter isn’t happy with the payoff because he feels the risk he is taking by breaking the law should result in a lot more profit. The two brainstorm ways to sell in larger quantities, but it turns out they had earlier killed the one person they knew who would be buy in bulk. By selling in larger quantities, the two can lower their average fixed costs (economies of scale), but it also means that they’re going to have to find a partner to do that because Jesse doesn’t have a big enough footprint to sell that much dope.
Jesse and Walter debate on the best way to start the business. At first, Walter is surprised that Jesse doesn’t want to cook in the garage, but Walter is just as reluctant to cook at his house. The two consider renting a storage unit, but eventually settle on purchasing a recreational vehicle. When starting a business, companies must decide whether to start by renting property, which may have lower costs initially or building and owning their own property.
There are tradeoffs to the two, and this situation is explored often in the decision for young adults to continue renting or purchasing their own home. The clip also serves as a good introduction to risk and uncertainty. Although it would be cheaper to begin production in their own homes, it is also VERY risky. Safe options often mean spending more money upfront.
Walter tracks down his former student, Jesse, with the intention of collaborating with him in the production of methamphetamine. Walter’s intentions become obvious once he starts revealing that the Drug Enforcement Agency (DEA) has apprehended Jesse’s former business partner. Walter goes further and adds, “But you know the business and I know the chemistry. I’m thinking … maybe you and I could partner up.”
While Jesse has performed both tasks in the past, there is little doubt that Walter, because of his chemistry knowledge and perhaps better task-management skills, is more productive at making methamphetamine as well as distributing it. Even though Walter has absolute advantage in cooking and distributing methamphetamine, the logic of comparative advantage tells us that Walter and Jesse should collaborate. More specifically, Walter should cook while Jesse should distribute/sell the methamphetamine.
Incentives, and how individuals respond to incentives, represent another key economics concept. In this clip, Walter’s offer for a partnership deal comes with a catch:
Jesse: “You wanna cook crystal meth? You. You and me.”
Walter: “That’s right. Either that, or I turn you in.”
Walter threatens to inform the DEA about the methamphetamine business if Jesse chooses not to join the partnership. Here, Walter is encouraging some action (joining him) by issuing a threat (turning Jesse in). Their interaction represents an ultimatum game, in which Walter’s threat is an example of a negative incentive.
This description comes from Duncan, Muchiri, and Paraschiv (Forthcoming).
See more: absolute advantage, comparative advantage, credible threat, credible threat, division of labor, gains from trade, game theory, incentives, opportunity cost, specialization, tradeoffs, ultimatum game
This clip shows Walter’s preference for producing superior products. In an inspired scene, Walter states: “You and I will not make garbage products. We will produce a chemically pure and stable product. One that performs as advertised. No adulterants. No baby formula. No chili powder.”
Why should Walter care about how his product performs? Why should product quality matter, especially when traded in a black market characterized by a relatively inelastic demand?
Product differentiation and quality, customer satisfaction, monopolistic competition, and market power can be discussed using this scene. As the show progresses, for example, viewers learn that Walter’s product is the best in the market, highly sought after, and blue. This last characteristic is especially important when learning about the white-colored competing methamphetamine. Product characteristics shape its substitutability and determine the elasticity of its demand or why brand products are often priced differently from generic products.
This description comes from Duncan, Muchiri, and Paraschiv (Forthcoming).